Cheap Stock
Categories: Stocks, Investing, Company Management
A company's stock offered to employees of said company as awards, prior to the IPO (Initial Public Offering), are termed “cheap stock.”
The “cheap stock” problem comes in because the award is counted as compensation for the company/income for the employee. So the corporation issuing that stock gets dinged. If it’s not valued correctly, the tax applied to both will be off.
Granted, it’s difficult to estimate the value of something that hasn’t been offered for sale yet. But this can also be a case of management awarding themselves shares, valuing them at a low rate, and selling immediately after the IPO when demand goes up.
To avoid inaccuracies, after the IPO is registered, the SEC compares the value of the pre-IPO stocks from the year preceding the IPO to the medium value of the stock once it’s public. If it’s way off, the SEC will ask when the stock rose in value.
The SEC recommends businesses value the shares for 12 months before the IPO to avoid inadvertently manipulating prices. And when the SEC recommends something...you should probably do it.